Costco's profit drops 16%, but sales rise

NEW YORK (MarketWatch) -- Costco Wholesale Corp. on Thursday posted a 16% drop in fiscal second-quarter profit, hurt by rising costs and charges, and offered a lackluster forecast for the current quarter.

The Issaquah, Wash., company
COST, +1.11%
posted net income of $249.5 million, or 54 cents a share, for the three months ended Feb. 18, down 16% from $296.2 million, or 62 cents, earned in the year-earlier second quarter.

The results included a $48.1 million charge related to reduced gross margin on the company's revised sales return reserve, a charge of $46.4 million associated with a stock-options review and a $10.1 million benefit related to an excise-tax refund.

Excluding these items, Costco earned 66 cents a share.

Costco's quarterly sales increased to $14.8 billion from $13.79 billion. Total revenue, which includes membership fees, reached $15.11 billion, up from $14.06 billion in the year-ago quarter.

Analysts, on average, expected it to earn 66 cents a share on revenue of $15.48 billion, according to Thomson Financial.

"We remain concerned about Costco's razor-thin profit margins and the levels of addressable household penetration, particularly since Costco trades at a valuation near the top of our retail group," Mark Rowen, a Prudential analyst with an underweight rating on the shares and a $45 price target, wrote in a note to clients.

Last month, Costco revamped its return policy on consumer electronics to keep shoppers from returning merchandise indefinitely for full refunds. In general, Costco allows shoppers an unlimited time to return most purchases for full refunds, but it recently set a 90-day return period for consumer electronics.

Costco, known for selling high-end merchandise such as plasma TVs, diamond rings and fine wine along with warehouse-club staples, tends to attract a higher-income consumer than rivals BJ's and Sam's Club, the Wal-Mart Stores Inc.
WMT, +1.35%
subsidiary.

On a conference call with analysts that was Webcast, Costco forecast fiscal third quarter profit in a range of 52 cents to 56 cents a share, excluding payroll related items.

Analysts polled by Thomson Financial expect it to earn 57 cents a share, on average. Chief Financial Officer Richard Galanti said the Thomson estimate likely included 1 cent a share for the payroll items

"Sales have picked up a little bit, that's good. I don't anticipate any changes in returns over the next few months as again, anything prior to the return change is grandfathered in and we'll see," Galanti said. "But given where we are now, I think it's better to be a little conservative and hopefully we can continue to come in at the high end of your ranges out there."

He said the company's fourth-quarter view is "within the range" of Wall Street's 84 cents a share target. For the fiscal year, Thomson's average estimate is $2.58 a share, and Galanti said it was "at the higher end of the range of what we would like to conservatively assume at this time."

Crunching the numbers

Same-store sales, tracking sales at stores open at least a year, rose 5% chainwide during Costco's second quarter, reflecting increases of 5% in the U.S. and 4% internationally.

February's same-store sales rose 4%, shy of the 5.1% consensus estimate. Total sales for the four weeks ended March 4 climbed to $4.22 billion, up 9%.

Regarding its expansion plans, the company intends to open 13 or 14 new warehouses, including one to be relocated to a larger site, by the end of the current fiscal year ending Sept. 2.

The shares have gained nearly 7% since the beginning of the calendar year, outperforming main rival BJ's Wholesale Club Inc.
BJ, +0.81%
shares of which have gained about 2%.

BJ's reported a 77% drop in quarterly results on Wednesday, hurt in part by restructuring-related charges. See full story.

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